Ireland—Assessment of the Risks to the Fund and the Fund’s Liquidity Position
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The economic and financial pressures facing Ireland are intense. The banking sector is at the fulcrum of Ireland’s problems. The program, therefore, aims to restore the banking system. It will address structural problems and restore confidence. A leaner and more robust banking sector is the major objective. The program provides support in the transition through additional capital to banks. The credibility of the banking system will be bolstered by stringent stress and diagnostic tests. The substantial risks to the program will need to be actively managed.

Abstract

The economic and financial pressures facing Ireland are intense. The banking sector is at the fulcrum of Ireland’s problems. The program, therefore, aims to restore the banking system. It will address structural problems and restore confidence. A leaner and more robust banking sector is the major objective. The program provides support in the transition through additional capital to banks. The credibility of the banking system will be bolstered by stringent stress and diagnostic tests. The substantial risks to the program will need to be actively managed.

1. This note assesses the risks to the Fund arising from the proposed arrangement under the Extended Fund Facility (EFF) for Ireland and its effects on the Fund’s liquidity, in accordance with the policy on exceptional access.1 The authorities are requesting a three-year extended arrangement with access of SDR 19.5 billion (2,322 percent of quota or 564 percent of proposed 14th General Review quota). The arrangement would have a frontloaded purchase schedule with a first purchase of SDR 5 billion (598 percent of quota) upon approval, followed by twelve purchases as shown in Table 1. Access during the first year would reach almost 1,500 percent of quota and the last purchase under the arrangement would be available in November 2013. Ireland has not had any arrangements with the Fund.

Table 1.

Ireland: Proposed EFF—Access and Phasing

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Source: Finance Department.

Starting March 2011 purchases will be condition on the completion of a review.

I. Background

2. Ireland’s external debt is the highest of recent exceptional access cases, with private sector debt accounting for the largest share. Ireland’s total external debt is projected at over 1000 percent of GDP at end-2010 (Table 2 and Figure 1). While a substantial portion of gross debt is accounted for by the liabilities of International Financial Sector Center (IFSC) participants, which do not reflect Irish risk, excluding an estimate of the bank component of this IFSC debt would still leave total external debt at almost 800 percent of GDP, with banks’ external liabilities accounting for about half.2 Ireland’s total external and private external debts as ratios of GDP are the highest among recent exceptional access cases (Figure 2, Panels A and B).3 At end-2010, Ireland’s total stock of private short-term external debt is projected at approximately 370 percent of GDP, of which about a fifth consists of banks’ repos with the ECB.

Table 2.

Ireland: Total External Debt, 2005–2009 1/

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Source: Irish Authorities, BIS, and IMF staff estimates.

End of year unless otherwise indicated.

Staff projections for end-2010.

International financial services center (IFSC) participants locate in Ireland and perform wholesale and back-office services for off-shore clients and parent companies, but are not part of the domestic banking system. The difference between BIS locational and consoldiated, ultimate risk basis foreign liabilities of Irish banks reflects the liabilities of the banking IFSC sector and is used to adjust gross external debt downward. This adjustment does not cover non-bank IFSC financial entities.

Figure 1.
Figure 1.

Distribution of Cross-Border Exposure 1/

(as a percentage of total cross-border exposure)

Citation: IMF Staff Country Reports 2010, 366; 10.5089/9781455212897.002.A002

Total exposure of EU banks (66% of total)1/BIS consolidated cross border liabilites, ultimate risk basis.
Figure 2.
Figure 2.

Debt Ratios for Recent Exceptional Access Arrangements 1/

Citation: IMF Staff Country Reports 2010, 366; 10.5089/9781455212897.002.A002

Source: Irish Authorities and IMF staff estimates, and World Economic Outlook.1/For arrangements approved since September 2008, estimates as reported in each staff report on the request of the Stand-By Arrangement or Extended Fund Facility. For Ireland, ratios reflect projected end-2010 data. Asterisks indicate PRGT eligible countries.2/ Adjusting for IFSC external liabilities as in table 2 footnote 3, Irish total external debt would be reduced to approximately 798 percent of GDP.3/ Amortization of medium and long-term external debt and total interest payments.

3. Ireland’s external debt service burden is heavy. Reflecting the country’s high debt stock, Ireland’s external debt service is higher than that for most of the other exceptional access cases (Figure 2, Panel C).4

4. Public debt and public external debt are high. Total general government debt is projected at around 100 percent of GDP at end-2010—one of the highest ratios among recent exceptional access cases (Figure 2, Panel D). It has exploded from 25 percent of GDP in 2007 (Table 2) owing to large fiscal deficits including bank recapitalization costs.5 In 2010, external public sector debt is projected at 125 percent of GDP, the highest among recent exceptional access cases (Figure 2, Panel B) up from about 16 percent in 2007.

II. The Extended Arrangement—Risks and Impact on Fund’s Finances

A. Risks to the Fund

5. Financing under the proposed EFF would surpass the access limits and be among the highest in terms of the level, and especially the duration, of access:

  • If all purchases were to be made as scheduled, Ireland’s outstanding use of GRA resources would rise from almost 600 percent of quota (145 percent of proposed 14th General Review quota) upon approval to about 1,500 percent of quota (about 360 percent of proposed 14th General Review quota) during the first year of the arrangement, peaking at just over 2,300 percent of quota (just over 560 percent of proposed 14th General Review quota) in November 2013.6 In terms of quota, this projected peak exposure would be among the highest in Fund history, and exposure could remain at a high level notably longer than in other exceptional access cases given the repurchase schedule of the EFF (Figure 3).7

Figure 3.
Figure 3.

Fund Credit Outstanding in the GRA around Peak Borrowing 1/

(In percent of quota)

Citation: IMF Staff Country Reports 2010, 366; 10.5089/9781455212897.002.A002

Source: IFS, Finance Department, and IMF staff estimates.1/ Peak borrowing ‘t’ is defined as the highest level of credit outstanding for a member.2/ Including precautionary SBA arrangements.3/ Median credit outstanding at peak is 1015 percent of quota; average is 975 percent of quota.
  • If all purchases under the proposed EFF are made, GRA credit outstanding to Ireland would peak at over 13 percent of GDP and over 10 percent of total external public debt by 2013 (Table 3). The peak ratio in terms of GDP would be among the highest of recent exceptional access cases, below Iceland and Ukraine (Figure 4, Panel A).8

  • In terms of SDRs, the projected peak GRA exposure of SDR 19.5 billion would be second highest among recent exceptional access cases (Figure 5, Panel A).9

6. If all purchases under the proposed extended arrangement take place as scheduled, debt service ratios to the Fund would be moderate in terms of a range of standard indicators, although in the context of a heavy overall external debt service burden.10 Ireland’s projected debt service to the Fund would peak at over SDR 3.7 billion in 2018 (Table 3), equivalent to about 2.1 percent of GDP and about 5.6 percent of general government revenues. While debt service to the Fund would peak at a modest 1.9 percent of exports of goods and services (Figure 4, Panel D), this is in the context of a high overall external debt service burden approaching 80 percent of exports of goods and services at its peak (Figure 4, Panel B).

Figure 4.
Figure 4.

Peak Fund Exposure and Debt Service Ratios for Recent Exceptional Access Cases

Citation: IMF Staff Country Reports 2010, 366; 10.5089/9781455212897.002.A002

Source: Irish authorities and IMF staff estimates, and World Economic Outlook. Asterisks indicate PRGT eligible countries.1/ Amortization of medium and long-term external debt and total interest payments.
Figure 5.
Figure 5.

Exceptional Access Levels and Credit Concentration

Citation: IMF Staff Country Reports 2010, 366; 10.5089/9781455212897.002.A002

Source: Finance Department.1/ Does not include FCL arrangements. Asterisks indicate PRGF eligible countries.2/ Credit outstanding as of November 12, 2010 plus expected first purchase under the proposed arrangement with Ireland.
Table 3.

Ireland—Capacity to Repay Indicators 1/

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Sources: Irish Authorities, Finance Department, and IMF staff estimates.

Assumes full drawings.

Repurchases are assumed to be made as scheduled.

Includes GRA basic rate of charge, surcharges and service fees.

Includes charges due on GRA credit and payments on principal.

Staff projections for external debt, GDP, gross international reserves, debt servicing, and exports of goods and services, as used in the staff report that requests the proposed EFF.

Amortization of medium and long-term external debt and total interest payments.

III. Impact on the Fund’s Liquidity Position and Risk Exposure

7. The impact of the proposed extended arrangement on the Fund’s liquidity and credit risk exposure is very substantial:

  • The proposed arrangement would reduce Fund liquidity significantly (Table 4). Commitments under the proposed arrangement would reduce the one-year forward commitment capacity (FCC), which currently stands at about SDR 151 billion, by over 13 percent.11 This level of liquidity remains comfortable by historical standards. However, the liquidity position could change quickly, particularly given the current potential for other large requests for Fund support owing to stresses in some sovereign debt markets and the potential for spillovers, underscoring the need for the continued close monitoring of the Fund’s liquidity position.

  • If the first purchase is made, Fund credit to Ireland would represent almost 9 percent of total GRA Fund credit (Figure 4, Panel B), making Ireland one of the larger users of Fund resources. The share of the top five users of Fund resources of total outstanding credit would decrease by several percentage points to about 65 percent (Table 4).

  • Potential total GRA exposure to Ireland would be a multiple of the current level of the Fund’s precautionary balances. After the first purchase, Fund credit to Ireland would be over 68 percent of the Fund’s current precautionary balances (Table 4), and the total access would be over 2½ times the current level of precautionary balances. Credit outstanding to Ireland will exceed the current level of precautionary balances through 2018, and average at over twice their level.

  • In the event Ireland were to fully draw on resources available under the proposed arrangement, the charges accruing to Ireland’s GRA obligations would far exceed the Fund’s burden sharing capacity were they to fall into arrears.12 Charges on GRA obligations would equal about SDR 128 million in 2011, over 3½ times the current estimated residual burden-sharing capacity (Table 4).

Table 4.

Ireland—Impact on GRA Finances

(millions of SDR unless otherwise noted)

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Sources: Irish authorities, Finance Department, World Economic Outlook, and IMF staff estimates.

The FCC is defined as the Fund’s stock of usable resources less undrawn balances under existing arragements, plus projected repurchases during the coming 12 months, less repayments of borrowing due one year forward, less a prudential balance.

A single country’s negative impact on the FCC is defined as the country’s sum of Fund credit and undrawn commitments minus repurchases one-year forward. Furthermore, Ireland would likely cease participating in the FTP, resulting in a parallel reduction of prudential balances.

As of November 12, 2010.

Precautionary balances exclude amounts in Special Reserves attributable to pofits on gold sales in FY2010.

Burden-sharing capacity is calculated based on the floor for remuneration at 85 percent of the SDR interest rate. Residual burden-sharing capacity is equal to the total burden-sharing capacity minus the portion being utilized to offset deferred charges and takes into account the loss in capacity due to nonpayment of burden sharing adjustments by members in arrears.

IV. Assessment

8. The proposed extended arrangement for Ireland intends to support the authorities’ economic program during a period of substantial adjustment and reduce the risk of international systemic spillovers. It seeks to address deep-rooted structural problems with a view to restoring confidence in the Irish economy’s future. Specifically, it pursues a fundamental restructuring of the banking sector, while preserving the fiscal consolidation objective to lower the deficit and debt over the medium term. This, in turn, is expected to restore market confidence and stem potentially pernicious systemic spillovers.

9. There are significant risks to the program that could affect Ireland’s capacity to repay the Fund. Achieving a gradual recovery of the economy is key. Given the high level of external debt, negative shocks to households’ and businesses’ repayment capacity, as a result, for instance, of lower-than-expected growth, would have the potential to lead to a further deterioration in banks’ balance sheets despite the comprehensive restructuring efforts, and put additional pressure on public sector debt. These, in turn, would add fiscal costs at a time when tax revenue performance would also be negatively impacted. Adhering to the fiscal targets and restructuring the financial sector would also require strong and continued political commitment and public support. Furthermore and notwithstanding a substantial recapitalization reserve, the ultimate need for bank recapitalization will not be known until early next year. Finally, market confidence may return more gradually than envisaged under the program if concerns about debt dynamics in Ireland and other members of the Eurozone intensify.

10. Overall, the proposed access would entail substantial risks to the Fund. The Fund would be highly exposed to Ireland in terms of both the stock of outstanding credit and the projected debt service, for an extended period and in a context of high overall debt and debt service burdens. The associated risks would be still larger should any of the risks to the outlook discussed above materialize. However, current circumstances are highly exceptional, requiring a strong sign of support from the international community in light of the high risk of international systemic spillovers. While Ireland’s capacity to repay its obligations to the Fund, and other creditors, rests crucially on its ability to mobilize sizeable resources from the private sector in the medium term, the financial terms of Fund assistance, the authorities’ commitment to their comprehensive adjustment program, the strong support of their European partners, and the Fund’s preferred creditor status all serve to mitigate the financial risks to the Fund.

1

Decision No. 14064-(08/18), February 22, 2008, as amended by Decision No. 14184-(08/93), October 29, 2008, and Decision No. 14284-(09/29), March 24, 2009.

2

This estimate reflects consolidated bank data published by the BIS. Non-bank IFSC financial entities, which are not covered by BIS reporting, may further reduce total external debt. Private external debt related to foreign direct investment consists of about 15 percent of GDP. As reported in Ireland—Request for an Extended Arrangement, Correction 1, (page 44), when holdings of foreign assets are taken into consideration, the Irish external position is a net liability of circa 90 percent of GDP.

3

Throughout the paper recent exceptional access cases refer to arrangements since September 2008.

4

If amortization of short-term debt (90 percent of total amortization in 2010) were included, Ireland’s total external debt service would rise from about 80 percent to 473 percent in terms of exports of goods and services.

5

Total general government debt, as defined by Eurostat, does not include external liabilities of the Central Bank of Ireland (about 34 percent of GDP at end-2009), which, however, are included in total external public sector debt.

6

Proposed 14th General Review quota is SDR 3449.9 million compared to actual quota of SDR 838.4 million.

7

The previous arrangements with the highest approved access as percentage of quota were Greece (3,212 percent) in 2010, Korea (1,938 percent) in 1997, and Turkey (1,560 percent) in 2001.

8

GRA credit outstanding to Ireland would peak at 110 percent of gross international reserves in 2013 (Figure 4, Panel C), but this indicator is less relevant in the case of Ireland owing to its Euro-area membership.

9

This assumes that no drawings are made under existing FCL arrangements.

10

Debt service to the Fund is calculated assuming that all repurchases are made as scheduled, i.e., each purchase is repurchased in twelve semi-annual installments, beginning in 4½ years after each purchase and ending after 10 years. Level and time-based surcharges of up to 300 basis points above the basic rate of charge apply to outstanding credit above 300 percent of quota (Decision No. 1234-(00/117), November 28, 2000, as amended by decision No. 14285-(09/29), March 24, 2009).

11

The FCC is the principal measure of Fund liquidity. The (one-year) FCC indicates the amount of GRA resources available for new financing over the next 12 months, and is calculated taking into account supplementary resources made available under borrowing arrangements including note purchase agreements. See Borrowing by the Fund—Operational Issues. In this connection, the Fund has received confirmation from most existing bilateral creditors of their intention to maintain their bilateral agreements in place under adequate safeguards after the amended NAB becomes effective.

12

Under the burden-sharing mechanism, the financial consequences for the Fund that stem from the existence of overdue financial obligations are shared between creditors and debtors through a decrease in the rate of remuneration and an increase in the rate of charge, respectively. The mechanism is used to compensate the Fund for a loss in income when debtors do not pay charges. Under current Board decisions, no burden sharing adjustments can be made that would result in a rate of remuneration below 85 percent of the SDR interest rate. While this limit could be changed, under the Articles the rate of remuneration cannot be below 80 percent of the SDR interest rate (Article V, Section 9(a)). No corresponding ceiling applies to the rate of charge.

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Ireland: Request for an Extended Arrangement-Staff Report; Staff Supplement; Staff Statement; and Press Release on the Executive Board Discussion.
Author:
International Monetary Fund
  • Figure 1.

    Distribution of Cross-Border Exposure 1/

    (as a percentage of total cross-border exposure)

  • Figure 2.

    Debt Ratios for Recent Exceptional Access Arrangements 1/

  • Figure 3.

    Fund Credit Outstanding in the GRA around Peak Borrowing 1/

    (In percent of quota)

  • Figure 4.

    Peak Fund Exposure and Debt Service Ratios for Recent Exceptional Access Cases

  • Figure 5.

    Exceptional Access Levels and Credit Concentration